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Take On Payments, a blog sponsored by the Retail Payments Risk Forum of the Federal Reserve Bank of Atlanta, is intended to foster dialogue on emerging risks in retail payment systems and enhance collaborative efforts to improve risk detection and mitigation. We encourage your active participation in Take on Payments and look forward to collaborating with you.

September 18, 2017

The Rising Cost of Remittances to Mexico Bucks a Trend

From time to time, I like to look back at previous Risk Forum activities and see what payment topics we've covered and consider whether we should revisit any. In September 2012, the Risk Forum hosted the Symposium on 1073: Exploring the Final Remittance Transfer Rule and Path Forward. Seeing that almost five years have passed since that event, I decided I'd take another, deeper look to better understand some of the effects that Section 1073 of the Dodd-Frank Act has had on remittances since then. I wrote about some of my findings in a paper.

As a result of my deeper look, I found an industry that has been rife with change since the implementation of Section 1073 rules, from both a regulatory and technology perspective. Emerging companies have entered the landscape, new digital products have appeared, and several traditional financial institutions have exited the remittance industry. In the midst of this change, consumers' average cost to send remittances has declined.

Conversely, the cost to send remittances within the largest corridor, United States–Mexico, is rising. The rising cost is not attributable to the direct remittance fee paid to an agent or digital provider but rather to the exchange rate margin, which is the exchange rate markup applied to the consumer's remittance over the interbank exchange rate. As remittances become more digitalized and the role of in-person agents diminishes, I expect the exchange rate margin portion of the total cost of remittance to continue to grow.

Even though the average cost of sending remittances to Mexico is on the rise, I found that consumers have access to a number of low-cost options. The spread between the highest-cost remittance options and the lowest-cost options is significant.

With greater transparency than ever before in the remittance industry, consumers now have the ability to find and use low-cost remittance options across a wide variety of provider types and product options. To read more about the cost and availability of remittances from the United States to Mexico and beyond in a post-1073-rule world, you can find the paper here.

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November 10, 2014

Virtual Currency Environment Still Fluid after Latest Rulings

The end of October was filled with multiple news-grabbing headlines reflecting the growing fears of Ebola, the exciting seven-game World Series, and the release of the first-ever college football playoff rankings. The launch of ApplePay also saw its fair share of headlines, but one piece of payments-related news might have flown a bit under the radar. On October 27, the United States Department of Treasury's Financial Crime Enforcement Network (FinCEN) issued two virtual currency administrative rulings stemming from its March 2013 guidance on regulations to persons administering, exchanging, or using virtual currencies.

The first administrative ruling involves a virtual currency trading platform that matches its customers' buy-and-sell orders for currencies. The company requesting this ruling stated that they operated the trading platform only and were not involved with money transmissions between it and any counterparty. FinCEN determined that money transmission does, in fact, occur between the platform operator and both the buyer and seller. Consequently, FinCEN said that this company and other virtual currency trading platform operators should be considered "exchangers" or "operators" and required to register as money transmitters subject to Bank Secrecy Act (BSA) requirements.

The second administrative ruling involves a company that enables virtual currency payments to merchants. This company receives payment in fiat currency from the buyer (or consumer) but transfers an equivalent amount of virtual currency to the seller (or merchant) using its own inventory of virtual currency to pay the merchant. This particular company asserted that it wasn"t an "exchanger" since it wasn't converting fiat currency to virtual currency because it was using its own reserve of virtual currency to pay merchants. However, FinCEN determined that this company, and similar companies, is a money transmitter because it accepts fiat currency from one party and transmits virtual currency to another party.

These two rulings confirm that if a virtual currency-related company's services allow for the movement of funds between two parties, that company will be viewed as a money transmitter and will be subject to BSA requirements as a registered money transmitter. As financial institutions consider business relationships with these types of companies, they should make sure that these companies are registered as money transmitters and have BSA programs in place.

The virtual currency regulatory environment continues to be fluid. For example, in his recent comments at the Money 2020 Conference, Benjamin Lawsky, superintendent of the New York Department of Financial Services, suggested that his office will soon be releasing its second draft of a proposed framework for virtual currency business operating in New York. Portals and Rails will continue to monitor this regulatory environment at the state and federal level.

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September 24, 2012

Alternative Financial Services Grow, and So Do the Unbanked and Underbanked

The just-released 2011 FDIC national survey on unbanked and underbanked households reports that this demographic segment has shown modest growth since the 2009 survey. Despite improvements in the general economy, 20.1 percent of U.S. households are underbanked and 8.2 percent are unbanked completely. According to the FDIC's definition, underbanked consumers may have a traditional bank account, but they rely heavily on alternative providers for financial services (shortened to AFS in the FDIC report). As we described in a previous post on nonbanks, the landscape for AFS today is a highly dynamic free-market environment that fosters creativity and innovation. Will the confluence of a growing underserved market and the ever-expanding role of nonbanks in our U.S. payments system fuel the fire for increased reliance upon AFS in general?

Growing use of alternative financial services
The growing reliance on AFS became more widespread between 2009 and 2011. According to the 2011 FDIC report, about 25 percent of all households, including the unbanked and underbanked, reported using AFS in the last year. These AFS users report finding nonbank financial services more convenient, faster, and less expensive than traditional banks.

Every day, many new types of nonbanks, including telecom firms, are entering the payments space, as we noted in this 2009 post on mobile money transfers. More recently, social networks like Facebook and PayPal-like payment business models such as Dwolla are entering the fray. Regulators of money transfer operators are working diligently to ensure that the myriad of new firms in the business are appropriately licensed and regulated. The fast pace of nonbank entry is creating a confusing regulatory environment and potential vulnerabilities that bad actors may find opportunities to exploit.

The growing appeal of prepaid
The 2011 FDIC report also notes that the unbanked and underbanked households rely on prepaid cards more than do fully banked households. One in 10 households overall reported the use of a prepaid card. The proportion of unbanked household that have used a prepaid card climbed from 12.2 percent in 2009 to 17.8 percent in the last survey.

The fact is, prepaid card adoption has been on the rise for some time. The Fed's last triennial payment study reported it to be the fastest growing retail payment method. The expanded functionality for prepaid payments today make them practical for many uses, including payroll, travel, and the provision of benefits. Consumers can purchase prepaid cards from merchants and other nonbank locales where they might be more comfortable than they would be in a traditional financial institution.

This is all good news in the context of financial inclusion and expanded opportunity for the unbanked to participate in the electronic economy and shift from more informal transfer methods. However, payments experts still have concerns. In particular, there is the risk that violators of money laundering laws may go undetected as stored-value payments move from the plastic card to other access devices such as mobile handsets. FinCEN and other regulators will need to keep these issues front of mind as adoption grows and more nonbanks participate in the prepaid industry.

Implications for policymakers and financial institutions
The report concludes that one particularly noteworthy lesson for banks to consider is the need to make traditional financial products more convenient, faster, and less expensive in order to compete with AFS. They should try harder to appeal to the under- and unbanked by providing expedited availability for deposited funds to compete with check cashers. The report even goes on to say that banks might find it useful to promote mobile technology to increase convenience, the most commonly reported reason that households use nonbank check cashiers. With the growing use of prepaid cards for both federal and state government benefits, astute financial institutions may recognize other opportunities to provide prepaid services that may eventually shift the unbanked and underbanked to more a formal banking economy.

However, one clear trend is that technology is driving entrepreneurship in payments delivery methods in unexpected ways, with new AFS services announced all the time. In the long run, AFS may not be considered alternative any more, shedding the negative reputation that label traditionally implies. If new payments are cheaper and faster, perhaps they deserve a less jaundiced eye.

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This week's post speaks directly to a proposed consumer protection requirement that RTPs in the United States may have to comply with when they send electronic remittances to recipients in foreign countries. Specifically, the proposed rule would require RTPs to disclose clear and complete information about cross-border money transfer services, including all fees, the exchange rate, and the amount of currency the recipient will actually receive once the fees and exchange rate have been applied.

This sounds reasonable. Under the new rule, consumers would be able to determine the total price, and therefore would know the net proceeds available to the recipient. The rule would also establish error resolution rights for remittance senders, defining standards for the resolution process and procedures for cancelling transactions and refunding fees.

However, variables outside the RTP's control can complicate remittance transfer pricing. Many RTPs have reported that the new requirements threaten to drive consumers to less formal and sometimes illicit money transmitters.

Below, we summarize some of the issues that the CFPB must consider as it crafts the final rule provisions. At issue is whether the agency will effectively achieve its mission of improving transparency for consumers without also bringing about the unintended consequences of onerous regulatory compliance costs for RTPs or undesired process formality for unbanked and possibly less sophisticated consumers.

Why would remittance costs vary?
The following table shows how pricing can change depending on how RTPs combine the fees and foreign exchange costs.

Many commenters on the proposed rule contend that RTPs cannot always control the transaction from start to finish, so compliance with such a requirement could become very complicated. They argue that the sending RTP may not know the exact amount of taxes, fees, and other charges that intermediary firms and governments impose. The lack of such information would also complicate the error resolution process. Nearly all commenters suggested that the rule be modified to allow RTPs to estimate costs based on information available at the time of the transaction.

Disclosures may not be enough to do the job
The CFPB aptly notes that disclosures may be insufficient in the battle for improving transparency and customer awareness. Consumers often rely on shortcuts and opt for convenience when making decisions; they often do not make the most advantageous financial choices. Additionally, many consumers need some extra help to understand disclosures, however well-designed and articulated. The CFPB also therefore recommends augmenting disclosure practices with customer education and outreach campaigns.

There is yet another issue to consider. As we've noted in previous posts, technology is helping create new business models for money transmitters and opening new channels for delivering remittance services. As a result, RTPs will need to modify their disclosure practices for multiple channels as remittance transfers continue to evolve into new innovative products and services. As the new regulator for ensuring that nonbank RTPs are ensuring adequate consumer protections, the CFPB must also assume an adaptive posture in the highly dynamic remittance service market.

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October 24, 2011

Keeping pace as money transmitters proliferate

As the United States migrates from paper-based retail payments to electronically enabled methods, we are witnessing a proliferation of entrepreneurial and innovative nonbank stakeholders entering the retail payments market. As my colleague discussed in a previous post, these nonbanks provide a variety of services that banks can use to create more efficient payment systems. But the fast pace of technological change and the ease with which these new companies can enter the retail payments arena may also be translating into new risk vulnerabilities for the nation's retail payments systems.

There are many different types of nonbanks in U.S. payments systems today, including technology developers, aggregators, agents, third-party service providers, and money service businesses (MSB) and transmitters. As technology enables more nimble and innovative payments, the role of MSBs and, in particular, money transmitters is growing more important.

Am I an MSB?
According to this table from the Financial Crimes Enforcement Network (FinCEN), certain products or service offerings may dictate the capacities in which a business might fit the definition of an MSB. Note that money transmitters represent a specific type of MSB that engages primarily in funds transfer services.

The innovations that PayPal introduced illustrate the value that transmitters add to the payment system through the provision of nimble service offerings that respond to consumer payment needs. Over time, PayPal has evolved into a mainstream payment service provider and household name, and has demonstrated a commitment to risk management and regulatory compliance across all the jurisdictions in which it operates. But PayPal's commitment contrasts with the overall state of the industry of MSBs, whose efforts are not completely transparent. MSBs and transmitters today operate in a fragmented regulatory environment determined by the specific governing laws, licensing requirements, and permissible business activities of each U.S. state.

As money transmitters become more prevalent players in our nation's payment system, is it time to reassess their regulatory environment and consider the potential benefits of a national supervisory framework?

Transmitters and the U.S. regulatory structure
Money transmitters are required to register with FinCEN and to comply with federal laws for anti-money-laundering and counterterrorist-financing provisions of the Bank Secrecy Act. In addition, 48 states require the licensing of money transmitters before they can do business. For money transmitters that operate in more than one state and across state lines, differences in state legal requirements create challenges to developing effective enterprise-wide compliance and risk-management programs. Furthermore, monitoring changes in various state legal regimes can be extremely complicated, not to mention costly.

Ironically, state regulatory authorities governing money transmitter businesses are generally budget-strapped in today's economically distressed environment, and lack the financial resources for taking action against all but the most egregious of bad actors. Unlike the prudential regulatory governance employed by the agencies of the Federal Financial Institutions Examination Council for the nation's mainstream financial institutions, regulatory response for the oversight of money transmitters is prompted instead by complaints to state authorities, or by the filing of suspicious activity reports to FinCEN.

Future regulatory considerations
There are many risks to consider in this nascent segment of the retail payments industry. With the ease of entry into the market for money transmitters and the potential lack of funding in some states for comprehensive regulatory oversight, some startups may circumvent licensing and capital requirements by merely opening for business, undetected by state authorities. FinCEN has issued advisories requesting that financial institutions that discover such businesses file suspicious activity reports (SARs) as a means of mitigating unlicensed and potentially illegal activity. Unfortunately, as technology supports more sophisticated advancements in electronic payments as well as new alliances between carriers and money transmitters, regulatory efforts will become increasingly difficult.

The newly established Consumer Financial Protection Bureau is empowered to exercise enforcement authority for improper conduct on behalf of money transmitters, but the task is daunting, considering the disproportionate state-by-state regulatory framework currently in place. Is it time to consider a more consistent, national approach to the legal and regulatory oversight of money transmitters? And, considering the onerous compliance costs that the current environment imposes, would money transmitters in fact welcome a more consistent, uniform environment?

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You are right to ask the question Cindy. A national framework that works to separate payments and other banking businesses ought to be a straightforward first step toward a more efficient payment sector. Innovation in the "money transmitter" segment should be decoupled from the areas of systemic risk (eg, credit creation).

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